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QUESTION 1 In 2017 a local bank, BANCOR, entered into a five-year currency and interest rate swap with the Kingdom of Moravia (KOM) who had
QUESTION 1 In 2017 a local bank, BANCOR, entered into a five-year currency and interest rate swap with the Kingdom of Moravia (KOM) who had just completed an issue of New Zealand dollar-denominated bonds. The terms of the swap are as follows: the principal amounts of the swap of NZD 200 million and USD 120 million are exchanged at the commencement and maturity dates of the swap, based on the spot rate at the time of NZDI = USD0.6000. KOM pays BANCOR interest semi-annually in arrears) at six-month LIBOR on USD 120 million. BANCOR pays KOM interest semi-annually in arrears) at 5.0% p.a. on NZD 200 million. Today, the swap has a remaining life of two years. The sixth swap interest payments were made earlier today, and the six- month USD LIBOR rate for the next floating rate swap payment on the USD 120 million was set to equal 1.5% p.a. (semi-annual compounding). Thus, four swap interest payments plus a re-exchange of the principal currently remain. The current end of day exchange rate is NZD1 USD0.6200 and zero-coupon yields (all continuously compounded) in the NZD and USD debt markets at the end of the day are as follows: (c.c. = continuously compounded). Term NZD USD (years)(% p.a.-C.c.) (%p.a.-c.c.) 0.5 3.5% 1.25% 1.0 3.7% 1.35% 1.5 3.8% 1.45% 2.0 3.9% 1.60% Required (a) What is the current value of the swap (in NZD) from the perspective of BANCOR at the end of the current day? (6 marks) (b) The value of the swap to BANCOR was zero at initiation. Carefully explain all reasons in words why does the swap now have a non-zero value for BANCOR? (Word Limit: 90 words). Please type your answer. (3 marks) QUESTION 1 In 2017 a local bank, BANCOR, entered into a five-year currency and interest rate swap with the Kingdom of Moravia (KOM) who had just completed an issue of New Zealand dollar-denominated bonds. The terms of the swap are as follows: the principal amounts of the swap of NZD 200 million and USD 120 million are exchanged at the commencement and maturity dates of the swap, based on the spot rate at the time of NZDI = USD0.6000. KOM pays BANCOR interest semi-annually in arrears) at six-month LIBOR on USD 120 million. BANCOR pays KOM interest semi-annually in arrears) at 5.0% p.a. on NZD 200 million. Today, the swap has a remaining life of two years. The sixth swap interest payments were made earlier today, and the six- month USD LIBOR rate for the next floating rate swap payment on the USD 120 million was set to equal 1.5% p.a. (semi-annual compounding). Thus, four swap interest payments plus a re-exchange of the principal currently remain. The current end of day exchange rate is NZD1 USD0.6200 and zero-coupon yields (all continuously compounded) in the NZD and USD debt markets at the end of the day are as follows: (c.c. = continuously compounded). Term NZD USD (years)(% p.a.-C.c.) (%p.a.-c.c.) 0.5 3.5% 1.25% 1.0 3.7% 1.35% 1.5 3.8% 1.45% 2.0 3.9% 1.60% Required (a) What is the current value of the swap (in NZD) from the perspective of BANCOR at the end of the current day? (6 marks) (b) The value of the swap to BANCOR was zero at initiation. Carefully explain all reasons in words why does the swap now have a non-zero value for BANCOR? (Word Limit: 90 words). Please type your
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